Posted
by
CmdrTaco
on Thursday June 24, 2010 @12:29PM
from the what-goes-down-eventually-stays-there dept.

Jamie found an interesting site that has many charts and graphs about the strange May 6 stock market plunge and rebound. There's a lot of information to consume over there, but it does a pretty good job of showing high-frequency trading is getting to be a real problem.

and stay there because that's about what it's worth. The only reason it's up above 10,000 is because it's being propped up with funny money. Just a year ago it was at 6800...these are the same companies. Does anyone really believe that all of the companies listed are collectively worth 1.5 times more?

Unfortunately, the majority seem to be believing Rupert Murdock's Wall Street Journal and similar mouthpieces spouting all the "Electronic Trading must be taxed/stopped/restricted, it is destabilizing markets" rhetoric.

As mentioned in above link and In case you did not hear about the New York Stock Exchange specialists charged with fraud, an event referenced in the above link - it's pretty amazing: Richard Ney wrote a best selling book in 1970 ("The Wall St Jungle", interview NY Magazine 1970) with a few follow up books that all called out the NYSE Specialist families for fraud, explaining exactly how they defraud the public. At the time The Wall Street Journal boycotted anyone selling the best seller and Ney was not permitted as a guest on The Tonight Show - very unusual at the time for someone with such a long run best seller/controversial book - his message had touched a raw nerve. In response, the establishment had Ney widely counter-attacked, labeled a conspiracy theorist nut at every opportunity - comments like "what would an actor know of the stock market" were common and can be heard even today.

To prove Ney's wild eyed grand conspiracy theory right - The Department of Justice finally got around to charging the NYSE specialists for the exact fraud that Ney described - 33 year's after he wrote about the crime! In 2003 the Specialist firms quickly got their get out of jail free cards for a tiny fraction of what they had actually defrauded over the years. The story does not end there however... news came out shortly after that the NYSE was at long last going to move to an all-electronic exchange - and that the Specialists firms charged with defrauding the public were the very same that had been blocking the move due to their 30% NYSE stake. Everyone in the know + those that read Ney's book knew all too well of the massive fraud going on in full public view for at least 33 years (more like 212+ years), but it was not until these Specialist criminals blocked other powerful interests that the illegal behavior was actually pursued by the DOJ.

If ever there was an example of the lack of credibility for the DOJ, this is it. 33+ years of massive fraud in full public view, but the DOJ did not get around to prosecuting until it was ordered to - until it was necessary to coerce the Specialist family firms into letting the NYSE go electronic. Nothing to do with justice, or protecting the innocent being defrauded to the tune of billions of dollars over the decades. As an added insult, the DOJ let the criminals off the hook with a paltry fine. But then there is no surprise there, as Richard Ney said it best:
"Regrettably, the arrangements that exist to preserve the traditions and legalize the frauds of the security industry are inseparable from the general organization of a society controlled by the financial establishment, a society whose laws and principal customs have been contrived to serve the special interests of the financial community,"

Voting Red or Blue will not change this arrangement of US society and it's laws - merely reinforce it.

It is no accident that this story comes just as Wall Street reform bill it being released. This story is just a little lube - brace to be shafted as we see what the reform bill holds.
Dug up some references for above:
http://www.amazon.com/Wall-Street-jungle-Richard-Ney/product-reviews/B00005X4AX/ref=dp_top_cm_cr_acr_txt?ie=UTF8&showViewpoints=1
http://books.google.com/books?id=5eICAAAAMBAJ&lpg=PA37&ots=JFKfDQyI8G&dq=%22richard%20ney%22%20conspiracy%20theory&pg=PA37#v=onepage&q&

The article you linked to pulls electronic markets and speed trading together. Most of the benefits the article mentions are largely a byproduct of electronic markets, not the high speed traders. In fact, I didn't see a single point in that article that applied only to speed traders.
The biggest flaw with speed trading is the fact that it's 100% artificial. It has nothing do with what the actual stocks are, merely with monitoring their price at a fine enough level to be able to buy and sell with just fractions of a cent in change. It doesn't reflect any real property of the market; it's merely another way to game the system. What's the solution to the problem? I don't know. Perhaps we just need to limit the number of trades that can be done per second. But it is an entirely artificial and potentially quite damaging phenomenon.

A high speed trader does not increase liquidity, because for a high speed trader to work it has to know that It can buy something now and sell it moments later. This means the initial seller and the final buyer already existed before the high speed trader got involved, they just hadn't found each other yet. The item being sold was already as liquid as it was going to get.

This is just plain wrong. Most research points to HFT accounting for around 70% of trading volume. Your also assuming HFT's don't trade amongst themselves, and that they don't make transactions on longer time periods when no buyer/seller can take their trades. When HFT's stop trading market liquidity plunges, and everyone complains when they do NOT trade the market [businessinsider.com].

It's not just right, it's dead on the money and is the main problem with flash trading - it adds a grand total of zero liquidity, instead it "skims off the top", essentially pocketing a small percentage on every sale it conducts.This is the very basics behind flash trading, and the reason why flash trading is being conducted in the first place - if it were a zero sum game, it wouldn't be worth the investments needed for flash trading. The massive fraud you talked about before is indeed horrible, but one crime doesn't make another currently legalized but essentially criminal and highly unproductive (from market's perspective) activity.The main reason why people can argue it adds liquidity is because it's the entire purpose of flash trading scheme to catch the buy/sell BEFORE it happens, and essentially conduct it twice, pocketing the difference. If buyer and seller contacted each other directly, as would imminently happen in a few moments if there was no flash trading going, liquidity would stay exactly the same.

In fact, it is far more often argued that flash trading in fact reduces liquidity, by removing and pocketing extra funds from buyers and sellers.

Also, please stop linkin businessinsider.com, which is essentially a professional magazine for people working in the stock market and will always be supportive of ways these people can use to pump money out of the actual companies/trades and into their/their owners' pockets as some sort of a reputable source. While a decent source on what's happening in the industry, it's about as trustworthy to present an unbiased and truthful point of view on this issue as an ultra orthodox jewish magazine would be on Palestine problem.

I find this defense of high speed trading odd -- it puts the cart before the horse. Liquidity is not a good in itself which should be promoted above all else. Liquidity in a market is important so that the price can correctly reflect the value of the thing being traded -- without liquidity a person may want to buy or sell without someone on the other end and thus the price may not reflect the actual value.

But, if high frequency trading creates liquidity but does so by also introducing price distortions (like a sudden crash), then we *should* get rid of high frequency trading so that we can maintain correct (and mostly stable) prices.

All the HFT's are doing is trying to scoop up money via arbitrage- scooping up a smidge here, a smidge there in the noise of trading during the day. There is nothing that supports the claims that they increase liquidity (HOW? Liqidity is cash not bound up in action doing something- nothing more. A penny here, a penny there isn't that.)

The buy-low/sell-high strategy broker takes a risk. At the instant he buys, he is not sure if he will be selling later. However, by buying at that moment, he gives cash to the seller, cash that would not have been available then. The seller benefits: he gets cash now, not later. And, in return for the risk of maybe not finding the right buyer later, the broker takes his cut - which is the reward for added value: the increased liquidity (seller go

High frequency trading is not beneficial when it shaves pennies and acts as an intermediary between a buy & a sell that would have executed anyways.

Your article discusses exactly that in the section called "Accelerating Price Discovery Benefits All Investors"And they have the nerve to try and make it sound like a good thing. From your FA:

Some critics, however, still maintain that, while greater liquidity is valuable in theory, market participants with large orders (and the individual investors they often are representing) are nevertheless harmed by high frequency trading. In simple terms, these critics assert that when, for example, they try to purchase a large quantity of IBM shares, high frequency traders detect the buying interest and cause the price of IBM to rise before they can finish purchasing all the shares they desire.

The problem with their counter-argument is that it ignores the fact that the HFT is buying up all the shares you could have bought and then selling them to you for a higher price.You, the original buyer get screwed and they, the original sellers, gain no benefit.

Then they try to stretch their asinine argument about trades that take milliseconds to execute,into the realm of land sales which often take days if not weeks to arrange and execute.Intellectual dishonesty at its finest.

As the FA points out, you are arguing in favor of inefficient markets. You want to be able to buy up all the shares without anybody being aware of the increased demand. HFT buys and sells in microseconds, at most minute time-frames - reducing the spread in the process. If you don't like the high price, don't buy. You want us to believe that a few microseconds later your buy/sell opportunity at a few cents difference has vanished.

More specifically, he's arguing against arbitrage, which is what HFT is. A is selling stock for X, B is buying stock for Y, X is less than Y so the HFTer gets their buy order in before X or Y realize their mistake, making Y-X from each share. They don't "create volatility," buyers and sellers were already there, they just take advantage of the fact that some people have better pricing information than others.

As the FA points out, you are arguing in favor of inefficient markets. You want to be able to buy up all the shares without anybody being aware of the increased demand. HFT buys and sells in microseconds, at most minute time-frames - reducing the spread in the process.

I guess that depends on your definition of "inefficient."

Lets say you're at the supermarket.You reach out your hand to take [product] off the shelf,by the time you reach out to take another [product], the shelf is empty!

A HFT saw your first signal and then swept the shelf clean,bought all of [product], and is offering to sell [product] to you at a markup.Oh, and the HFT has done the same thing at every other supermarket you would visit.

Has the market been made more efficient?Or is the HFT behaving like an anti-social asshole?I'd say the answer to both questions is "yes,"but that the needs of society outweighs the needs of the market,which is why we have farking regulations in the first place.

You want us to believe that a few microseconds later your buy/sell opportunity at a few cents difference has vanished.

Uhhh... that's exactly what HFTers do.That's exactly what the parent's article argues is a good thing.Or do you have another explanation for why they need ultra low ping connections?

I guess that depends on your definition of "inefficient."
Lets say you're at the supermarket.
You reach out your hand to take [product] off the shelf,
by the time you reach out to take another [product], the shelf is empty!

The market is more "efficient" in the sense that the seller obtains the lowest price he is willing to accept and the buyer pays the highest price he is willing to give. "Efficient" in the sense that, as long as those two prices are different, there's room for another middleman. The arguments for HFT, taken to their conclusion, would claim that every purchase should pass through as many hands as possible, in order that the person who actually created the economic value in the first place makes no profit, the person who finally benefits from the widget has paid so much that he'd reverse the sale for a penny, and a whole chain of bankers and lawyers have divided the difference.

It's like a steam plant: there's a particular shape of turbine where the steam expands reversibly and you maximize the conversion of heat to work. The chamber has to expand infinitesimally, to balance the infinitesimal cooling and depressurization of the steam.

The economists are completely agnostic to who gets the money: they only care that it gets paid to someone. Economically, no purchase should ever make you happy or improve your condition. If you are better off after your purchase, then the seller should have charged more. Or someone should have added a middleman-markup.

Efficiency in the sense that the buyer's order was too high (by a fraction of a cent)? and then the difference between the buy and the sell price doesn't go to the buyer or seller. That money just disappears from the transaction.

I guess if you worship at the shrine of "efficiency" then that kinda makes sense. It's the punishment for getting the price wrong. But at some point, at some level of detail, you might want to consider that the efficiency gains are inscrutable.

And at some level (which we might have already reached) the efficiency gains might be outweighed by what would act as a kind of transaction tax paid by market participants to the HFT machine.

You, the original buyer get screwed and they, the original sellers, gain no benefit.

THAT is exactly the crux of the thing. The article sings of the benefits of rapid price discovery but completely glosses over the fact that it is NOT the original seller that sees the benefit.

To use his own real estate analogy, the high speed trader sees what the developer is about to do and quickly buys up the homes one by one for about what the developer would have paid,. So, no benefit to the sellers there. He then sells for a much higher price to the developer because HE knows what's up. Certainly no benefit to the developer there. The only entity that benefits is the high speed trader who made himself an unwanted middleman in a transaction that would have actually been easier without him.

Electronic trading is great! It's sure a lot more efficient than a bunch of people running around with slips of paper like chimps on meth, High speed trading is bunk. Things would actually work a LOT better if the transactions were made at 1 minute or even 15 minute granularity.

All this HFT stuff is zero-sum, if someone makes $10 on HFT, someone else loses $10.

HFT is a market parasite at this point and, IMO, ALL quotes should have a randomly induced delay between 0 and 1 second (with the delay being DIFFERENT to different participants), to eliminate the advantage of high frequency trading.

I'm not so sure they're actually taking any risk, to be honest with you. I think that's really at the heart of this all.

Let's say you stuck 2002's Michael Vick (you know, when he was an NFL cheat code) into a Midget league. Technically he'd be taking a risk every time he took a snap and ran with it, but realistically the outcome would be exactly what any and every reasonable, non-insane person would predict.

Or maybe you're playing poker and all your opponents have wire hats, and you're a computer. You ca

Either you trust them and you play their game, or you don't and you find some other way to invest your money. It would seem that generally the clientele are pretty pleased with their results.

The reason the stock market goes up is because more and more money goes into it. The reason more and more money goes into it is because governments around the world give preferential tax treatment to 'investments' in pension plans and the like, so people keep putting money in there in the hope that they'll get more back that way.

So, as usual, the root cause of the problem is the government funneling money into the markets through artificial incentives. Eventually people will start to realise it's a scam and stop throwing money away so that bankers can buy their third Porsche.

Yes, in a trivial sense. But it's still important to distinguish the *kinds* of perceived values, because they have a much different impact on the world and on the (mis)allocation of resources. Here's a simple attempt at the distinction:

Type I perceived value: Bob pays X gallons of milk for a cow because he believes that, over time, it will yield a certain amount of milk and meat.

Type II perceived value: Bob pays X gallons of milk because he believes other people will soon, in the same place, pay him more

June 2009, the dollar was.71 against the Euro. Lately its been floating around.85. So, the dollar is worth a little more. On top of it, stock values fell due to the recession.

As far as some kind of Joe Sixpack "that company aint worth that much" sentiment, well, the stock market has never been a rational system. It trading system. The mob mentality defines the prices. If the mob thinks Pokemon is worth a bazillion dollars and people are willing to spend all this money on Pokemon, the guess what, they ar

Nothing is worth anything, in a real sense. Gold is just some random metal. Currency is just some paper. Worth is a fiction dictated by markets.

Food and land. Actually, just land, since if you have that (good land, anyway) you can grow food. Agreed that the "worth" of just about everything else, including gold, is an agreed-upon fiction, but there really is an absolute standard of value: the stuff you need to survive. In the modern industrialized world, of course, we tend not to worry too much about that, but it's good to remember that there is something at the base of the pyramid.

Agreed that the "worth" of just about everything else, including gold, is an agreed-upon fiction, but there really is an absolute standard of value: the stuff you need to survive.

This is close, but nearer to the truth is "the stuff that makes you less miserable". People want to grow their own food so they don't go hungry. They want blankets so they won't be cold. They want to be married so they don't die alone.

Why do you believe that the companies should be worth 25% less than last year? These are the same companies. Do you really believe that all of the companies listed are collectively worth 25% less? I'd like to see your analysis on that one.

If you know what companies are 'worth' why aren't you out making a pile of money either shorting them if they're too high or buying if they're too low? What exactly justifies your price of 5000? Really, what defines the worth of a company? A company's worth isn't some discretely tangible thing, as much as we'd all like that. You buy or sell stocks based on what you think the price and dividends are going to be at some point in the future. Which can suddenly change if you know... there's a major oil sp

Does anyone really believe that all of the companies listed are collectively worth 1.5 times more?

Does anyone believe they were worth that much less after the market cratered in 10/2008? Same companies, same people going to work everyday, doing the same things.

What all this reflects, of course, is that the market is volatile. Volatility is a measure of the market's certainty about what things are worth. So, to directly answer your question, because the market is volatile these days people are less inclined

Yes the market was at 6800 a year ago but it was also at 14000 two years ago, so maybe at 6800 the question was "these are the same companies. Does anyone really believe that all of the companies are collectively worth less than 50%?". And it seems the market answered "No, they're collectively worth about 30% less".

Stocks 101: The stock market is a measure of future expectations, not current conditions. The Dow hit 6800 because there was a great deal of future uncertainty about whether or not we were entering a major recession or a long-term depression.

So yes, the 1.5x valuation is fully warranted today. Whether that will still be true tomorrow is debatable.

and stay there because that's about what it's worth. The only reason it's up above 10,000 is because it's being propped up with funny money. Just a year ago it was at 6800...these are the same companies. Does anyone really believe that all of the companies listed are collectively worth 1.5 times more?

So you're saying that the DJIA being over 10,000 prior to the global recession was also due to funny money? Which source, exactly?

Making stock comparisons to valuations of one year ago is highly suspect as the prices one year ago were not real: they were during a highly anomalous global market condition. The tacit assumption that the origin of the comparison was a normal condition is not valid, therefore any irregular results (like 1500% growth in one year) should not be taken at face value.

50% more and 1.5 times are the same thing. Don't confuse 1.5 times with 1.5 times more. If it were equal it would be 1 times. And 50% more is 0.5 times more. Could also be represented as 150% of last year's value.

"But if central banks didn't exist, money would be a true representation of capital."

Then we'd have large banks to replace them. If we also somehow prevent them, then there won't be economic growth because it requires credit system.

he modern economy is quite amazing and counter-intuitive. For example, if Europe decides to be masochist (tighten monetary policy - it's tough times, so everybody should suffer) then you'd have stagnation and deflation.

May 6John (one of the wall street support technicians) was playin flash games on his workstation.The stock market is stored under "market2010.swf"He forgot to move it into the right folder N:\smarkets\closed\market2010q2.swf usually when this happens it's not so bad becauseUnfortunately, the network admin did a flash game sweep and deleted *.swf as a routine cleanupWhat happened was, the market2010.swf was deleted by the routine scan, so now they having to recreate all the data from memory. Stockmen are now trying to guesstimate how many shares they own.

When they say fat fingered, they aren't joking. N:\smarket has TONS of files and it takes AGES to load a 1000 files in icon view on Windows 98!

Old way: 10,000 trades a day, every few months or years the market dips for a few months and rebounds, every several years the market enters a deep recession for years.

Yet it doesn't have to be that way. the problem is people put money in the stock market because they want to make money, not because they give a sh*t about the companies they're investing in or their products/services. the result is everything becomes about making profit now instead of building long-term stability.

Fluctuations are one thing, but those "deep recessions" are all the result of a small group of people doing incredibly stupid things in the name of short-term profitability.

These high frequency tradings should be banned. They contribute absolutely nothing to the market, the companies or the shareholders at large. All they do is extract money at the expense of the market's overall health.=Smidge=

High frequency trading adds a lot to the market. Just not the way you think it should. I for one like the fact that there is ALWAYS someone buying or selling EVERYTHING. That makes it easier for me to buy and sell. Liquidity is not something that should be overlooked as a great thing to have.

High frequency trading adds a lot to the market. Just not the way you think it should. I for one like the fact that there is ALWAYS someone buying or selling EVERYTHING. That makes it easier for me to buy and sell. Liquidity is not something that should be overlooked as a great thing to have.

You seem to have bought into the commonly repeated lie about High-Frequency Trading. It's existense is not there to "help you" via providing liquidity to the market. In fact, HFT requires a pretty high level of existing liquidity to work in the first place! If little to no people are trading a specific stock, there is little liquidity and there is no viable way to make money from it via HFT. If a given stock is being traded by institutions utilizing HFT, it means there were no liquidity issues to begin with. If there were, these institutions wouldn't have been able to make money using HFT in the first place!

High frequency trading adds a lot to the market. Just not the way you think it should. I for one like the fact that there is ALWAYS someone buying or selling EVERYTHING. That makes it easier for me to buy and sell. Liquidity is not something that should be overlooked as a great thing to have.

This is a myth. HFT adds volume which creates the illusion of liquidity. 1,000 shares passed back and forth 1,000 times will show up as 1,000,000 transactions. This artificially created liquidity makes it appear as if the stock is liquid when it is in fact, not. It's only 1,000 stocks. Someone that wants to buy 10,000 stocks would think 1,000,000 volume is fantastic, when in fact there is no real volume there. This all happens in milliseconds, before anyone without a million dollar computer hooked up next d

If only somewhere there were an article that described the situation, it would really help us become informed about it. Maybe some site that focuses on news for nerds could post a link to it. That would be awesome.

Wow, I know this is asking a lot, especially given the length and depth of the article, but seriously, go read it. They've clearly put a lot of effort into analyzing the situation immediately before and during the crash and that is not what the evidence says. For one thing, only a single affected stock was in 'Slow trade mode' at the beginning of the crash, and only 3 were by the time the crash was at its worst. Furthermore, the stocks in slow trade mode trailed behind the stocks that actually caused the problem.

Basically, the first thing that went wrong is that the NYSE received too many quotes too fast, faster than they could process them. So their systems put them into a queue and processed them as quickly as possible. The next step where things went wrong was that these quotes were timestamped when they left the queue, instead of when they entered. This means that the apparent price on the NYSE was lagging a little bit behind reality. Problem number three occurred when the high frequency trading systems detected this apparent price difference and attempted to capitalize on it, driving the cost for the affected stocks even low and generating more quotes on those stocks as well, causing a feedback loop that bottomed out the market.

Now the question is, why were there so many quotes for these stocks, up to 5000 a second from a single source in some cases. I'm hardly an expert, so I'll just quote the conclusion the report comes to:

What benefit could there be to whomever is generating these extremely high quote rates? After thoughtful analysis, we can only think of one. Competition between HFT systems today has reached the point where microseconds matter. Any edge one has to process information faster than a competitor makes all the difference in this game. If you could generate a large number of quotes that your competitors have to process, but you can ignore since you generated them, you gain valuable processing time. This is an extremely disturbing development, because as more HFT systems start doing this, it is only a matter of time before quote-stuffing shuts down the entire market from congestion. We think it played an active role in the final drop on 5/6/2010, and urge everyone involved to take a look at what is going on. Our recommendation for a simple 50ms quote expiration rule would eliminate quote-stuffing and level the playing field without impacting legitimate trading.

The real problem is the reliance on the stock market as a measure of the economy in the first place. The stock market is a completely artificial construct that has nothing to do with anything. It would be best if people just ignored it.

Look at this recession for instance. If you look at the stock market you'd think that the recession is over. Fat lot of good that does for all the people who are still out of work. And no, unemployment is not a "lagging indicator", it's the only thing that matters.

Since nothing is actually produced - the ground starts out flat and it ends up flat - there's no difference between that and simply giving them the money for sitting on their butts. And yet, I remind you, the claim was that employment per se was what mattered. Actually what matters is useful employment.

but since they have a paycheck they can buy things.

And the increased demand will drive up prices for them - and for everyone else. Might as well have told those

So if all the jobs were replaced with sweat shop ones that paid 5cents an hour run by Chinese companies you'd say the economy has not changed at all? Because that's what you're arguing.

Unemployment doesn't particularly matter, not every job is equal and most of them don't matter that much. Welcome to reality. The stock market, theoretically, measures the value, including future potential, of companies and thus of the market.

And no, unemployment is not a "lagging indicator", it's the only thing that matters.

Yeah, because those places where everyone is employed as a subsistence farmer and everyone is employed because they starve to death and thus they have 100% employment; those places are a real model for us to follow in the economy. You are right, people make the mistake of relying on the stock market as a measurement of the health of the economy, but you've made the same mistake using a different statistic. Economies are complicated, and you can't get a good understanding using any one measurement alone.

those with the screamiest servers the shortest fibre optic hop away from wall street get to play this game, no one else. it dedemocratizes the market. the ideal of a marketplace is that it is a meeting place of equals. if the guy with the most expensive servers and programmers money can buy is the only one who can profit though, the marketplace is now simply an oligopoly of the rich, not a place where the common investor can make his or her mark

of course, the market has never been a meeting place of equals, it has always been abused by the largest players in the marketplace. however the idea is to minimize this abuse, not excuse or accept it

what the market needs is a "tick", a "heartbeat": all trades, no matter from whom, must be made in the same 1 second or three second batch cycle. no one should be allowed to exceed this frequency. problem solved

if the guy with the most expensive servers and programmers money can buy is the only one who can profit though, the marketplace is now simply an oligopoly of the rich, not a place where the common investor can make his or her mark

I think this is a great explanation of why high frequency trading bothers people. It amounts to, If you have the connections and resources to create this super-fast setup, you can get a piece of everything without actually doing anything. You don't produce anything or provide any service. You just force yourself into the position of taking a cut of other people's business deals.

Only if you have a broad enough definition as to make the word "investing" useless.

Buying a company because you've done research and think it makes a worthwhile product (widget, service, whatever) is far different than buying/selling on "spread" and wild, factless speculation that is little more than throwing darts at the financial page tacked to a wall.

ya if anything this was a strong supporter of high frequency trading. The market corrected before the vast majority of people were even aware there was a stock market dip. What caused the initial dip is well outside my area of expertise (since I don't follow the second to second activities of traders), but after it did happen, that it went back to be in line with it's roughly steady state seems like the system is work.

High frequency trading allows rapid price normalization between exchanges, which is good

Old way: You give your cow to a servant to take it down to the market to sell it, and there's a bunch of people there who are willing to give him a fair price. Flash crash way: You tell the servant to take your cow down to to the market and sell it, but everyone's really busy and a little skittish, and since you told him to sell it now he sells it to a bum on the street corner for a nickel, then everyone panics: "the price of cows has fallen to a nickel! woe and ruin!" until some people wise up and realize they can buy cows on the cheap, and do so.

Well, I would suggest reading the article. Basically, there are two problems identified:

1) NYSE has a bug in their system which caused a crash.

2) High volume traders are effectively launching denial of service attacks through their otherwise unnecessarily high number of quotes per second ( as high as 5000 per second). The only reasoning besides stupidity is that they are trying to force their cometitors to burn though their cpu analysing the quotes, allowing the quoter to have a temporary advantage in analysis and trading.

Another note, the billions of dollars "lost" during this flash were only felt by those that invest for the moment. The long term investor did not even notice this blip. IMHO if you play the investment game and are trading on the news of the microsecond you are very well aware that some news is FALSE. Your choice to act on information is your CHOICE. You either make some money or lose some money.

I'd really like to see some statistical data showing that it's quieter month-to-month just because it's livelier minute-to-minute. At the first level, you have the real economy with profits and dividends. Some invest based on the real economy relative to the stock price, let's call these first order investors. Above these there's a layer of macro traders, trying to figure out what the real economy investors will do, those are of the second order. For each level you get shorter timespans trying to outguess t

...right here [zerohedge.com]. One commenter had some interesting things to say about "quote stuffing":

Just because the folks at Nanex can't figure out why a system was entering orders and cancelling them frequently does not mean that they were being "stuffed" to thwart competitor's systems.

The logic on the machines placing those orders (HFT or otherwise) may have been severely screwed up by the craziness of 5/6 and the latency on data feeds - but there is no way to profit by spewing lots of quotes.

First, everyone in the HFT space has plenty of headroom to process the full raw feeds (rather than the SIAC consolidated feeds Nanex is looking at). A few thousand extra quotes per second is not meaningful to systems that can process millions of quotes per second.

More to the point though, each exchange gives each participant a port on which to send their order flow. Those ports are rate limited. That means that if you send thousands of spurious quotes that are not going to hit, the only harm you cause is to your own trading strategies, since when you finally did want to execute a trade at a price where the execution was remotely likely, you are going to have that order queue behind all of your other orders on the same port.

I'd never heard of Zero Hedge. Well it appears the guy who run it (at least according to Wikipedia) is banned from working at hedge fund companies for insider trading. That leads me to question the neutrality of his position. Seems like he's the kind of guy who wants any unfair advantage and as such may argue to keep those in place.

The real problem isn't trading frequency. It's the basis for the market. Since most stocks have stopped paying significant dividends, there's very little basis for any one stock's value. The stock market today is solely based on betting whether an individual can accurately predict what the rest of the market will do in the future. Stock prices don't have anything to do, whatsoever, with the inherent financial value of the underlying company.

If I'm going to gamble, I'm going to Vegas. At least there, you get free drinks as you piss your money away.

I have always thought that if you buy stocks that pay dividends you should have to keep them for a minimum of a year, and if you buy stocks that don't pay you should have to keep them for a minimum of 24 hours before being able to sell them. If you short stocks the sale should take 24 hours to take affect.

I mean really, what could happen in 24 hours that would honestly affect the value of a publicly traded company? Even the oil spill has taken weeks and months to lower BP's value, and really in the long run it is probably time to buy BP stock.

The problem wasn't the NYSE. The problem was that when the NYSE decided to execute trading delays, the other markets replied "the computer sez no" and kept on trading at high speed. Because there weren't enough buyers at the time to satisfy all the selling, all the market sellers saw their prices plummet because the computers were programmed to find a buyer no matter what the price, as long as the transaction would clear.

So... what's the problem? If you picked up Accenture at a penny a share you should be fuckin' lucky. I wouldn't shiv that stock off to a homeless man for a nickel.

From a few pages into the write-up (http://www.nanex.net/20100506/FlashCrashAnalysis_Part4-1.html):

What benefit could there be to whomever is generating these extremely high quote rates? After thoughtful analysis, we can only think of one. Competition between HFT systems today has reached the point where microseconds matter. Any edge one has to process information faster than a competitor makes all the difference in this game. If you could generate a large number of quotes that your competitors have to process, but you can ignore since you generated them, you gain valuable processing time. This is an extremely disturbing development, because as more HFT systems start doing this, it is only a matter of time before quote-stuffing shuts down the entire market from congestion.

a distributed denial-of-service (DDoS) attack is one in which a multitude of compromised systems attack a single target, thereby causing denial of service for users of the targeted system. The flood of incoming messages to the target system essentially forces it to shut down, thereby denying service to the system to legitimate users.

Quote stuffing looks like a DDOS to me, and should automatically be illegal. Of course, there are several technical differences that any lawyer could point out,thus making quote stuffing legal, so I'd recommend outlawing it just to be sure. Not often I get to say, in all seriousness, "There ought to be a law." {Most situations do not require new laws, only the proper application of existing laws.}

Instead of putting in fixes at the exchange level, put something in at the SEC regulation level so it applies to all US exchanges. And yes that'll stabilize foreign exchanges too. Think about supply and demand and what sellers do when prices drop in market A and don't drop (or don't drop as far) in market B.

First option: bunch trades by time. Define a market tick, say 2 seconds. All trades that come in in a given tick get bundled together and executed as if they'd arrived in a random order at the end of the tick. The exchange is allowed to use any method to randomize and order the trades, the only rules are that the method can't be based directly or indirectly on the original arrival sequence or the original arrival time and the method can't give preference to any particular trader or type of trader. The bunching should have no effect on people who trade on timescales more than about 2x the tick, but makes trading on timescales less than the tick infeasible because the market simply won't execute your trade any faster than the tick.

Second option: random delays. Define a market tick, say 2 seconds. All trades, as they arrive, have a random delay between 0 and the tick length calculated (same rules as option 1) and have their execution delayed by that much. You're guaranteed to have your trade executed within 1 tick of it's arrival, but you can't know when within that 1 tick it'll actually be executed. Again the delay should have no effect on people trading on timescales larger than about 2x the tick, but trading on timescales less than the tick becomes infeasible.

That should smooth out the noise caused by high-frequency trading without seriously impacting things for anybody who's not trading on sub-second intervals. And it avoids the whole quagmire of trying to ban every different way of doing high-frequency trading and seeing the HFTs try to find loopholes and methods you haven't banned yet by simply setting a time resolution for the exchanges below which everything's just random noise.

HFT 99% of the time is actually a healthy process - it allows relative mispricing to be quickly corrected and gives investors a chance to trade at prices which are fair whenever they come in to buy or sell.

HFT firms don't care if the P&G share is fundamentally worth 60, 5 or 100$: they are only concerned about the relative value of the stock versus other financial instruments. If for example you know that product X has a robust 1:1 correlation with product Y (for example cash vs. future), and one goes up while the other goes down for no apparent reason, the HFT guys step in and immediately buy X and sell Y until they are realigned. This will usually be for small volumes because such discrepancies don't last for long and are due to people who just aggressively buy or sell one of the products.

Simply put, HF trading firms inject liquidity into the market, they allow thousands of investors to be able to buy and sell literally any financial instrument with a relatively predictable cost (the bid/ask spread).

The real danger IMHO are the "high volume" traders, whether they are hedge funds who take directional bets or some large bank with dubious moral values. These guys will look for markets where they can push the prices up or down using sheer volume. I see this quite often on stocks which are prone to takeover rumours, "large buyers" or "large sellers" suddenly step in and start buying or selling anything they can get their hands on - all market makers panic and think that there is either something they don't know or someone who has insider knowledge. Once things settle, they calmly sell away their new position to other investors (the trend following sheep) who step in to trade on the unknown rumour.

The guys have some skin in the game. From their website: Nanex is the creator and developer of NxCore, a streaming whole market datafeed.Their recommendations are moot too:

> 1. Quote and trade data must be time stamped by the exchanges at the time it is generated. This will ensure delays can be detected by everyone.

This data is already timestamped by all US exchanges. Data delays are mainly due to line delay and application delays that can be measured quite acccurately. Not many people do it properly though. Many does not look at it at all.For individual long-term investor (5+ years) it does not matter at all anyway.

>2. Quote-stuffing should be banned.Exchanges have already requirements for designated liquidity providers to quote at NBBO for X% of time (where generally > 90%). Presumably these providers receive some benefits for doing so (lower rates etc.) Do you think it is reasonable to force other people to buy and sell at a certain price? What if retail investor wants to sell his 100 IBM shares at $110 when market is $100?

> 3. Add a simple 50 millisecond quote expiration rule: a quote must remain active until it is executed or 50ms elapses.

Why exclude Alaska/Hawaiii? What if US citizen wants to trade from Baghdad Green zone and it takes 500ms to get signal there via sattelite link? Should we change thange the rules to accomodate that? Or should we allow people to compete by improving their systems?

The flash crash (and high-frequency trading in general) is really only symptomatic of a deeper underlying problem - the modern stock market has no fundamental reason to exist. When the concept of stocks originated, it was a way to own part of a company. Companies paid dividends, and so if they did well then they sent you (the investor) a check in the mail. In that way, stocks could be thought of as investments where the payoff was receiving profits in the mail.

But the stock market has changed into something different and really bizarre. Everybody knows that a company's profits and stability are what drive its stock prices. But why is that? Although a few stocks pay dividends, these days most don't. And to the common investor who holds a small percentage of overall shares, I don't think there's any easy way to _force_ dividends out of a company you own stock in. In a theoretical sense I could buy up enough shares of the company to force them to pay me dividends, but that's not something the average investor can realistically achieve.

That means that the the only payoff possible from my stocks is the money I could make by selling them. This is really strange if you think about it. If I'm never going to see significant dividends from Google, so their financial success or failure should have no underlying reason to affect stock prices. If the ONLY thing stocks are good for is selling them to somebody else, then they have no intrinsic underlying value. They don't pay dividends. I can't take them over to Google HQ and say "here's my share of the company, I'd like to take this office furniture now."

It's like the stock market has changed from a way to invest in companies and share their profits to some strange cult where everybody's drinking the kool-aid and the only people winning are brokerages. People put their retirements, their life savings, into something that has no intrinsic value whatsoever. It seems like the market is essentially dependent on an having ever-increasing influx of new buyers, like a sort of giant distributed pyramid scheme. To me, it's not a question of _if_ the stock market will collapse completely but more a question of _when_. Nothing logically inconsistent can endure forever.

"Add a simple 50 millisecond quote expiration rule: a quote must remain active until it is executed or 50ms elapses. If the quote is part of the NBBO, it may be improved (higher bid or lower offer price) at any time without waiting for the expiration period. "

Um, 50ms is not a humanly realistic decision span. It takes longer than that to recognize the color of the arrow pointing in the direction your stock price is going.

HFT is the epitome of arbitrage, and competed directly with human (or flesh-and-bones) trading. They should play by common rules that are at least realistic for both. This means that quote expirations should be measured in full SECONDS, not milliseconds.

This will, of course, destroy the obvious and worst advantage HFT has, that is the millisecond response to arbitrage opportunities. But it will allow at least the dedicated human trader an opportunity to participate in a market they are now just being beaten to by a machine.

We wouldn't allow a professional baseball team to use a mechanical pitching machine instead of a real-life pitcher. Dialing the speed up to 150MPH wouldn't enhance the game, and would instead overwhelm human batters with little hope of success no matter their skills. the game is INTENDED to be played between humans, as a test of skill and determination.

Stock trading should, in my humble and entirely uneducated opinion, be a game played among relative equals. HFT is breaking this in a way that is not useful to the market, does not add value to the capital stocks being traded nor the companies and shareholders represented, and defeats even the most concerted efforts by human traders to participate on even a marginally equal footing. No amount of analysis or even reaction by a real life trader can survive head-to-head with an HFT system.

If the purpose of the Stock Market is to offer opportunities to profit from purely technical conditions, even to allow profit from malfunctions, then HFT fits right in. But if the Stock Market is intended to provide opportunity to raise capital, develop value, and gain profit for those with good decision-making skills and insight, then HFT is an 'unfair' advantage to machines at the expense of all other players.

It is also, clearly, dangerous, and can cause significant disruption as well as loss to other players, in circumstances that are not related to actual market or economic conditions. A 'simple' delay of a few milliseconds in system response can result in the feedback loop observed in this case, and that is not useful to the markets. Quote stuffing is pure fraud. In fact, much HFT activity borders on fraud, as it is intended to deceive other players. Yes, it is. Looking for the arbitrage opportunity on a millisecond scale is nothing but machines battling machines. The only realist hope is to catch one in a moment (a definitely short moment) when something is not working right, and score.

Yes, HFT programs work to catch opportunities, and generally do with no great risk to the overall market. But in my naive opinion, this is not really useful to the market, nor the national economy as a whole.

Perhaps I should be asking the other question - does the Stock Market now serve the economy in a beneficial way, or is it now the province of software and arbitrage, primarily serving those who seek to take advantage of even momentary mismatches of pricing? And should it be permitted to continue down this road to the point where it is no longer feasible for a human trader to participate in short-term trading?

My investments are in mutual funds that exercise restraint and hold stocks for longer periods. If I were buying single issues, I would be planning on holding them for years in most cases. And I would feel genuinely cheated if I happened to choose to sell a stock at the same time as the market suffered a purely technological dip, and I was faced with a 30% drop in value for no reason other than the NYSE was queueing quotes for 20ms longer than normal.

Clearly, I have a naive view of the market. I think it should serve some purpose other than it seems to now. I know.

Not to cast scorn on what was obviously a very scary thing for many a day-trader, but for a long term institutional investor, this was barely a blip on the radar. REAL crashes happen for a reason, and you can almost always see them coming, at least in hindsight. Looking back at 2008 and 1929, there's a very clear pattern that indicates exactly what is wrong, and how the likely result came to be. They still can't even figure out what happened this time, and a day later, it's hard to tell why it really matters anyway.

In a REAL crash, there will be an underlying reason. Prior to the crash, a lot of smart people, investing over the long term, will recognize the signs that the stock market is about to become a bad investment, and will either stop investing in it, or it appears to be cost-effective, sell off some of their more risky holdings, and re-invest in something more recession proof. This is what starts the decline (which happens over a period of months). Then suddenly, one day, when everyone really gets all panicy, it'll start dropping more rapidly, the media gets in on the fun, etc.

The May 6 crash, on the other hand, had less to support it. Sure, there was that whole mess in Greece, but they're hardly holding up all the world markets anyway. One possibility is that someone purchased a huge amount of stock at significantly below market price. Since the ticker prices we are all intimately familiar with are little more than the last price something sold at, if enough consecutive trades go through at that same price, it will have the effect of suddenly dropping the market price for everyone.For your normal investor who ISN'T hitting reload every 10 seconds, they aren't going to notice this. However, the computers will. And everyone who has put in automatic sell orders will get triggered, and those shares will also sell automatically at whatever cost someone will pay for them. Seeing a sudden sell-off, any automatic purchasing might also be temporarily put on hold, increasing the downward trend.

Now, some savvy investors, both long-term and short-term, realizing there is no sensible reason for the selloff, will see this as a rare buying opportunity, and will rapidly start purchasing shares in huge quantities. This will quickly cause the market to correct itself back upwards, until it gets close to where it was supposed to be. The problem solved itself. The REAL problem was investors who put in automatic sell orders, as if the stock in a stable company is going to plummet so rapidly that they won't have a chance to escape before the company goes bankrupt. Check some of the stock graphs for Enron and Worldcom. Those companies both went to pot practically overnight, but even then, you had months to watch the stock price fall, and could sell off at any time you wanted. Automatic sell-offs are just asking for trouble, and are just an excuse to not pay attention to your own money.

The "analysis" fails to account for what was happening in the currency markets - specifically the USD/JPY market that day. The events in the Forex market preceeded the equities market all day - specifically there was a huge drop in the US dollar (vs Japanese Yen) ten whole minutes BEFORE the S&P plunged. Looking only at the stock market will never let you understand what happened - it was a crisis of confidence not in equities, but rather in the US dollar as a whole.

Not to be a conspiracy theorist, but I work with a bunch of math PhDs who specialize in stochastic processes. Two of them used to work in the financial sector before the crash. Everyone around here including me has come to the conclusion that someone planned a really big "oops" to make his friends very rich and get a few kickbacks. Sell it short, baby!

The problem with this is that since it has happened once, it *is* going to happen again in a slightly different way. Software glitches, fat fingering the keyboard, etc. are convenient excuses.

Even professional math/finance PhD folks can make disastrous mistakes. Long Term Capital Management was founded with two Nobel Prize winners in Finance... didn't stop them from blowing up and needing a bailout.

That's how it should be, but can never be as long as dividends are taxed more than capital gains. If I'm holding stock long term, I pay a lot less to the government if the company retains earnings and aims for growth than if they pay those earnings out as dividends.

True. People find exploits in systems as trivial as video games, operating systems, etc. If you toss in the potential for large financial gain, then it's almost a given that someone will maliciously exploit a financial system.

It's a bit unnerving that no one caught the potential for this considering what's at stake (and at the same time you have people overly concerned with things as comparatively mundane as the security of operating systems). Well, someone did find the exploit, but it was found by the wrong party.

It basically sounds like the author is attributing the "Flash Crash" to lag [wikipedia.org] from an insufficient quoting computer.

And to an intentional use of this infrastructure deficiency to blind competing trading algorithms for short periods by issuing bursts of quote requests that will overwhelm competitors for a few milliseconds.

the 'flash crash' had impact far beyond just the NYSE. Crude oil dropped $3/bbl in a very short period of time and rebounded. With commodities markets as leveraged as they are it would have been quite easy to rake in massive amounts of money if you knew the incident was coming